Revenue growth returns at Idea Cellular

Idea Cellular Ltd’s results for the quarter ended December 2010 suggest that sustainable revenue growth has returned to the wireless industry. Revenue grew by over 8% sequentially last quarter, on the back of a strong 10% growth in the total number of minutes carried on the company’s network.

Actually, volume growth has been much higher in preceding quarters. In the June quarter, volume growth was as high as 13.5% after adjusting for the Spice Communications Ltd amalgamation. But back then, there was also a large drop in average realized tariff, which offset much of the increase in volumes. Last quarter, however, average tariff fell by only around 2%. As a result, much of the volume growth translated into revenue growth.

And while earnings before interest, tax, depreciation and amortization (Ebitda) was either flat or declining in preceding quarters, it rose by around 8% last quarter, in line with the growth in revenue.

One would have expected an expansion in operating margin thanks to the incremental revenue growth of nearly Rs300 crore. But margins were flat at 24% on a consolidated basis, implying that they are under pressure owing to high customer acquisition costs. While the decline in tariffs seem to have been arrested, other costs such as dealer commissions and advertising still seem to be high. The pressure on margins should continue since mobile number portability has just been implemented. Besides, 3G services would be launched soon too, which will keep a check on consolidated profit.

The good news, however, is that the steady volume growth of the past few quarters is now translating into revenue growth. And even if Idea is able to maintain margins as it did in the December quarter, earnings growth should be healthy in the next year.

The firm trades at an enterprise value/Ebitda ratio of over seven times based on estimates for FY12. Given the fact that the industry is still not completely out of the woods and there still remains regulatory risk, there may not be a re-rating. Even so, returns may be healthy, if the stock were to keep pace with expected growth in earnings.